STATEMENT OF PURPOSE AND REVIEWPROCEDURESAdvances in Management Accounting (AIMA) is a professional journal whosepurpose is to meet the information needs of both practitioners and academicians. We plan to publish thoughtful, well-developed articles on a variety ofcurrent topics in management accounting, broadly defined.Advances in Management Accounting is to be an annual publication of qualityapplied research in management accounting. The series will examine areas ofmanagement accounting, including performance evaluation systems, accountingfor product costs, behavioral impacts on management accounting, and innovations in management accounting. Management accounting includes all systemsdesigned to provide information for management decision making. Researchmethods will include survey research, field tests, corporate case studies, andmodeling. Some speculative articles and survey pieces will be included whereappropriate.AIMA welcomes all comments and encourages articles from both practitionersand academicians.Review ProceduresAIMA intends to provide authors with timely reviews clearly indicating theacceptance status of their manuscripts. The results of initial reviews normallywill be reported to authors within eight weeks from the date the manuscript isreceived. Once a manuscript is tentatively accepted, the prospects for publication are excellent. The author(s) will be accepted to work with the correspondingEditor, who will act as a liaison between the author(s) and the reviewers toresolve areas of concern. To ensure publication, it is the author’s responsibilityto make necessary revisions in a timely and satisfactory manner.Editorial Policy and Manuscript Form Guidelines1.

Manuscripts should be type written and double-spaced on 81/2" by 11"white paper. Only one side of the paper should be used. Margins shouldbe set to facilitate editing and duplication except as noted:a. Tables, figures, and exhibits should appear on a separate page. Eachshould be numbered and have a title.xi

Footnote should be presented by citing the author’s name and the yearof publication in the body of the text; for example, Ferreira (1998);Cooper and Kaplan (1998).

2. Manuscripts should include a cover page that indicates the author’s nameand affiliation.3. Manuscripts should include on a separate lead page an abstract not exceeding200 words. The author’s name and affiliation should not appear on theabstract.4. Topical headings and subheadings should be used. Main headings in themanuscript should be centered, secondary headings should be flush withthe left hand margin. (As a guide to usage and style, refer to the WilliamStrunk, Jr., and E.B. White, The Elements of Style.)5. Manuscripts must include a list of references which contain only thoseworks actually cited. (As a helpful guide in preparing a list of references,refer to Kate L. Turbian, A Manual for Writers of Term Papers, Theses,and Dissertations.)6. In order to be assured of anonymous review, authors should not identifythemselves directly or indirectly. Reference to unpublished working papersand dissertations should be avoided. If necessary, authors may indicate thatthe reference is being withheld for the reason cited above.7. The author will be provided one complete volume of AIMA issue in whichhis or her manuscript appears and the senior author will receive 25 offprintsof the article.8. Manuscripts currently under review by other publications should not besubmitted. Complete reports of research presented at a national or regionalconference of a professional association and ‘State of the Art’ papers areacceptable.9. Four copies of each manuscript should be submitted to John Y. Lee at theaddress below under Guidleline 13.10. A submission fee of $25.00, made payable to Advances in ManagementAccounting, should be included with all submissions.

11. For additional information regarding the type of manuscripts that are desired,see ‘AIMA Statement of Purpose’.12. Final acceptance of all manuscripts requires typed and computer disk copiesin the publisher’s manuscript format.13. Inquires concerning Advances in Management Accounting may be directedto either one of the two editors:Marc J. EpsteinJones Graduate School of ManagementRice UniversityHouston, Texas 77251-1892John Y. LeeLubin School of BusinessPace UniversityPleasantville, NY 10570-2799

INTRODUCTIONMarc J. Epstein and John Y. LeeThis volume of Advances in Management Accounting begins with an article byC. J. McNair, Lidija Polutnik and Riccardo Silvi that, according to one reviewer,represents ‘ground breaking’ work which extends strategic cost managementdirectly into the end-customer interface. This article extends the understandingof the value creation model (VCM) and its viability as a metric for evaluatingthe effectiveness of a firm’s strategy and execution of that strategy.This volume continues with an article by Marc Epstein, Piyush Kumar, andRobert Westbrook. This article addresses the fact that neither academicsnor managers have yet delineated the leading and lagging indicators of business performance, their interrelationships, and how they should be measuredalthough activity based costing and the balanced scorecard have recently focusedgreater attention on the drivers of costs, success, and profits. To address thisneed, they propose a model of the causal relationships between the variablesdescribing business performance, along with suitable metrics for operationalizing the model.The article by Mohamed Bayou and Alan Reinstein involves a look at sharpdifferences between Eastern and Western philosophies that have affectedmanagement accounting thought and practice. Japan, for example, a processoriented society, uses techniques such as target costing and Kaizen costing thatrequire process-oriented thinking focusing on continuous improvement. TheWest, in general a result-oriented society, uses result indices as prime factorsfor performance evaluation. To test the claim on the difference between theWest’s and East’s modes of thinking and the related costing structures, theyinvestigate the differences in the automobile industry’s practices, namely theemphases on results and cost associability at General Motors, Ford MotorCompany and Honda Motor Company.The article by Thomas Madison and Donald Clancy examines the associationbetween downsizing and performance when consideration is given to competition and equity market pressure. Zahirul Hoque reports on the results of an empirical assessment of the importance of matching productivity measures withxv

business mission and perceived environmental uncertainty. The results supportearlier findings linking contextual factors to performance evaluation systems.This volume continues with an article by Jeffrey Quirin, David Donnelly, andDavid O’Bryan. It investigates the relationship between two organizational constructs, budgetary participation and budget-based compensation, and two individual characteristics, organizational commitment and performance. The relationshipbetween performance measurement and the use of balanced scorecard in thehealthcare sector is discussed in the article by Lilian Chan and Kathy Ho. Thispaper uses a survey data involving hospitals.The next two articles deal with activity cost variance analysis and efficientCEO compensation. The article by Charles Tang and Harry Davis developsan integrative approach to analyze variances in activity costing. It offers adirect and intuitive analysis. The article by Elizabeth Cole and Joanne Healyuses a data envelopment analysis approach in the study of efficient CEOcompensation.We believe the nine articles represent relevant, theoretically sound, and practical studies the discipline can greatly benefit from. These manifest ourcommitment to providing a high level of contributions to management accountingresearch and practice.Marc J. EpsteinJohn Y. LeeEditors

ABSTRACTThe challenge is for cost management professionals to devote sufficient resources to thisarea to turn the potential benefits into realities and for general managers to push cost analyststo understand and explain cost position in strategic terms.Shank and Govindarajan, 1993: 44

Advances in the literature on strategic cost management and relatedmanagement practices point to the importance of having a thorough understanding of the relationship between a customer’s willingness to pay fora bundle of attributes and the cost incurred to meet these requirements.In response to these trends, McNair, Polutnik and Silvi (1999) introducedthe value creation model (VCM). VCM defines a firm’s cost structure interms of value-added, business value-added and non-value-added activities, as well as various forms of waste. The resulting cost structure is thencompared to the product’s customer-defined value attributes. The degreeof alignment between cost and value is measured within VCM via a metric,or value multiplier, that compares incurred costs against a revenue proxy

for each value attribute. The improved alignment of activities, costs andvalue attributes is posited to provide a firm with the basis for improvingits competitive position.This paper extends the understanding of the VCM approach and its viability as a metric for evaluating the effectiveness of a firm’s strategy andexecution of that strategy. Specifically, this paper uses findings from eightfield sites in eight unique industries to explore the validity of the assumptions, methods, and metrics that comprise VCM. Analysis of the data suggests that value-driven cost control provides a potential for improvedprofitability. The improvement can be achieved through improved processalignment or reconfiguration or through more effective cost management inthe early stage of product life cycle. The value multipliers derived from thefield data are posited to serve as a focusing device, one that helps a companyimprove its financial performance and overall responsiveness to the market.The resulting metric appears to provide a powerful tool for assessing bothmanagement’s and the firm’s effectiveness in the market, as well as isolating areas of significant strategic risk or opportunity.

INTRODUCTIONThe marriage of cost and strategic analysis is in its infancy. Since the earlywork of Shank and Govindarajan (1993a, b) in Strategic Cost Management andthe related efforts taking place under the Target Cost Umbrella (Ansari & Bell,1997; Society of Management Accountants of Canada (SMAC), 1996), this fieldhas gained momentum. No longer solely the interest of strategists, the development of viable, logical linkages between strategy, customer requirements, andfirm performance is now recognized as an imperative for a profession seekingto regain its relevance (Johnson, 1992; Johnson & Kaplan, 1987).The key issue raised by proponents of a strategic perspective in cost management is the need to incorporate the drivers of company performance in thedesign and analysis of its cost system. There is increasing evidence, though,that not all such drivers are equal in terms of their impact on firm effectiveness. Specifically, target cost management evidence points toward the need toincorporate a customer perspective – an outside-in view of the firm – as thecritical dimension. Target cost management (TCM) establishes the linkagebetween cost and customer requirements during product design (Ansari & Bell,1997; SMAC, 1996). It fails, however, to extend this logic into existing products and services or to incorporate the ‘total firm’ perspective necessary tosupport the development of a customer-driven strategy (Wayland & Cole, 1997;Green & Srinivasan, 1990).

In order to fully understand the linkage between cost and strategy, and touse this knowledge to improve firm performance, it is critical to define andmeasure the firm’s current and potential ability to meet customer requirementsin a cost-effective manner (McNair, 1994; McNair et al., 1999). Creating thebridge between the firm and its customer is the first step in transforming costfrom a financial function to a strategic tool. Cost in this setting becomes morethan an economic measure of resources consumed by an activity – objective‘fact’ – it becomes an investment stream that yields long-term dividends to thefirm and its stakeholders.The objective of this research was to explore and define the relationshipbetween market requirements, measured through a set of specific product valueattributes (Wayland & Cole, 1997; Green & Srinivasan, 1990; Lancaster, 1971),and the investments of the firm in delivering on these attributes. The research wasshaped by the underlying belief that it was possible to quantify the relationshipbetween market/customer requirements and the internal economics of the firm inrelative, directional terms. Therefore, the goals of this exploratory study were to:(1) determine if this relationship could be measured; (2) identify the degree ofalignment of the firm’s cost structure with the customer-defined value attributes;and, (3) explore the relationship between the degree of alignment and organizational effectiveness (as measured by profitability and customer satisfaction).The study was by nature exploratory and sought to define key variables,explore relationships, test the ability to objectively measure the key variables,and determine whether or not the resulting information would impact management’s perspective and strategic focus (Dubin, 1978). Building on bothqualitative and quantitative case-based methodologies (Lincoln & Guba, 1985;Yin, 1984), the study tries to lay the groundwork for the extension of strategicand target cost management by defining cost management as part of a firm’songoing strategy deployed through its investments in specific resources andcapabilities.Filling a gap in the development of the strategic cost management paradigm,this work seeks to link the internal economics of the firm to the market inrelative – not concrete or objective – terms. The following pages presentthe background literature, which serves as the basis for the development of thetheory and the propositions tested during the field research. The methodologyis then detailed, followed by the field evidence from eight sites, including firmsin the U.S., Italy and Canada, that are engaged in both service and manufacturing activities. The field evidence is analyzed, leading to observations andrecommendations for future research. Taken in total, this exploratory studyprovides new insights into the complex relationship between cost and firmperformance.3

BACKGROUNDOver the past fifteen years, management accounting practices have faced – andmet – significant challenges to their relevance (Johnson, 1992; Berliner &Brimson, 1988; Johnson & Kaplan, 1987). The onslaught of papers that followedin the wake of these early challenges legitimized the efforts to assess and revitalize cost management practices – to “worry about accounting” (Hopwood,1994). As the field turned to introspection, it was determined that little changehad taken place in cost management practices since the 1920s.McNair and Vangermeersch (1998a, 1998b), utilizing historical analysis ofthe capacity literature, traced the curtailment in the development of cost management practices to the National Industrial Recovery Act (NIRA, Johnson, 1935;Lyon et. al., 1935). The NIRA appears to have transformed ‘cost’ from anobjective measure of the resources consumed by a firm in its attempts to meetcustomer requirements to a political tool for rationalizing and institutionalizingthe inclusion of waste in the calculation of a product’s full cost (McNair &Vangermeersch, 1998a, b). A far cry from the efforts of Gantt (1915), Church(1915, 1931) and others to develop an objective measure of the ‘true cost’ ofa product or service, the resulting full absorption costing model became a basisfor price setting and cost rationalization at a societal level.1For more than 50 years, cost management practices in the United Statesretained this single-minded focus on establishing a basis for the ‘price’ (e.g.,inventory value) of a good or service. Full absorption costing, which emphasized the allocation of all indirect productive costs to good units produced,became the dominant cost management paradigm. While full cost modelsremained static, the competitive climate continued to change. By the late 1970s,the onslaught of foreign competition had begun to undermine the economicstructure defined and implemented during Roosevelt’s New Deal. Faced with amarket and a set of customers who were no longer willing to accept the products a firm wished to sell at the price needed to ‘cover its costs’, managersbegan to need and demand new forms of cost and accounting information. Itwas this demand that led to the rebirth of management accounting practices(Johnson, 1992; Vangermeersch, 1996–7).During the early stages of the rebirth of management accounting, emphasis wasplaced on improving the accuracy of product costing practices (Turney, 1991;Kaplan & Cooper, 1998). Unbundling overhead and reassigning it to the activitiesand outcomes that were determined to cause these costs, these early activity-basedcost models made the questioning, and change, of management accounting practices legitimate. The floodgates of debate and change in management accountingwere opened. What followed was an almost frenzied search for relevant practices,

which led to the exploration and adoption of models and insights from strategy,operations management and engineering. It is a quest that continues today,as practitioners and academics alike seek to create a database of economic andnon-economic information that can meet management’s ever-growing need forinformation to use in decision support.The changes that are taking place in management accounting practice can beclassified along two primary dimensions: (1) internal versus external focus, and(2) cost versus value emphasis (see Fig. 1). Activity-based costing (ABC), one ofthe earliest of the ‘new’ techniques,2 is both internal in its focus and cost-based inperspective. It seeks to better understand the internal causes of cost, emphasizingthe development of data that is not defined or measured in terms of its impact onunit costs at the product level.While ABC is commonly agreed to be an improvement over traditional standard costing, it is not without its detractors (Noreen, 1997; Johnson, 1992). Oftenexcessively detailed in nature, ABC has proven to have the potential to be cumbersome to design and implement in practice (Noreen & Soderstorm, 1994). Inaddition, simplifying assumptions made within the ABC model create concernsfor many. Specifically, ABC’s treatment of all non-unit costs as ‘variable’ innature,3 as well as its tendency to remain tied to the general ledger as a full absorption product cost approach, have combined to create a level of skepticism aboutits accuracy and informativeness.Several changes to the early ABC model and literature have been made toaddress some of these weaknesses. In addition to arguing that the technique isbeing improperly judged, ABC proponents have undertaken efforts to reduce itscomplexity and detail orientation through the development of Activity-basedmanagement (Cokins, 1999; Player & Keys, 1995). The general ledger dependency of ABC has been loosened through the use of Activity-based budgeting(Brimson & Antos, 1999) and Capacity cost management (McNair &Vangermeersch, 1998b; Klammer & McGowan, 1997; The Society ofManagement Accountants of Canada, 1996). As a result of the latter work, idlecapacity costs and other forms of waste are no longer a mandatory part of a product’s inventoried cost. There has been a renewed recognition, first stated by Gantt(1919), that only those resources actually consumed by an activity or good unit ofoutput should be assigned to it.As cost management practices began to expand in scope and content, theorganizations they served continued to experiment with new management techniques. What emerged was a recognition that the market – the firm’s customers –were the unmeasured and poorly understood driver of a company’s success.Banker et al. (1998) determined, in fact, that a positive association existedbetween customer satisfaction measures and future accounting performance for5

As these studies suggest, the value of a product or service, as defined by thecustomer and market, rapidly became the central theme in the burgeoning costand management literature. Early process value analysis work (Ostrenga &Probst, 1992) gave way to business process reengineering (Hammer & Champy,1995; Davenport, 1994), and finally, the emerging literature on customer-drivenstrategies (Wayland & Cole, 1997; Green & Srinivasan, 1990).Cost management practitioners, responding to these trends, have rapidlyincorporated the language of the customer in their work (Kaplan & Cooper,1998; McNair et al., 1999; McNair, 1994; Morrow, 1992; Turney, 1992). Forinstance, recent initiatives at Sears have resulted in an ‘Employee-CustomerProfit Chain’ model that is believed to have led to a turnaround in theperformance of this well established retail giant (Rucci et al., 1998). In fact,this firm has gone so far as to posit, and validate, that each percent improvementin customer satisfaction results in a $50 million annual increase in revenues.

Results from four years of application throughout the retailing firm, while inconclusive in scientific terms, suggest that a firm that learns to effectively leverageits resources in ways that improve customer satisfaction can expect to improveits own performance as well as its overall competitive position.The implications of these customer satisfaction-driven studies and activitiesfiltered their way into the activity-based cost literature. The most common treatment for these effects was to further classify the activities of them into twocategories: value-added and non-value-added. Value-added costs were definedas those that could be directly tied to serving the customer, while non-valueadd activities could not be so linked. The premise underlying this classificationwas simple – a firm that had a higher amount of ‘value-add’ in its cost structure would outperform a firm that did not have as high a level. Interestingly,while there continued to be ample evidence that customer satisfaction was acritical dimension of competitive success, the field evidence in cost management using the ‘value-add/non-value-add’ classification did not always supportthese contentions.The inherent flaw in these efforts was the fact that the ‘value’ that wasestablished for an activity or outcome was defined by management and the firm– not the customer. In addition, field evidence suggested that few individualswere willing to agree that their work was unnecessary to the firm, especiallygiven the climate of reengineering and downsizing that was prevalent duringthe late 1980s and 1990s (McNair et al., 1999). These weaknesses combinedto give the activity-based concepts of ‘value-added’ limited usefulness instrategic and tactical decision making.Strategic cost management (SCM) (Shank & Govindarajan, 1993a, b)addressed many of these shortcomings. SCM has the stated objective of usingcost information, often gathered from several heterogeneous external sources,to define and create a competitive advantage (Shank & Govindarajan, 1993a,b; Porter, 1985). In the SCM environment, managers look for ways to leveragethe industry value chain in unique ways that reduce the cost and complexityof completing transactions. The key contribution of SCM is that it takes anexternal view of cost and raises the understanding of how company activitiescan be better leveraged and aligned with the market to improve performance.The strategic positions identified and taken through SCM and related approachesare dynamic, as are the value relationships in the industry’s value chain (Shanket al., 1998; Slywotzky & Morrison, 1997). However, the performance improvements are often short-lived, due to competitive forces. In addition, theexamination of the firm’s internal cost structures often remains superficialbecause the model is defined around the firm and its placement within theindustry value chain. A high-level tool, SCM fails to provide guidance on7

the ability of specific activities, products or services to meet defined customervalue attributes.Target cost management (TCM; Ansari & Bell, 1997; Cooper, 1995;Yoshikawa et al., 1993; Sakurai, 1989) and product attribute costing (Bromwich& Bhimani, 1994) take a different approach to incorporating customer information in the cost management system. Recognizing that customers purchasea product or service because its bundled attributes, or features, best match theirrequirements, these cost management models emphasize the concept of valueas defined by the customer. This is not a new insight in business economicsnor marketing, but it does represent a shift in the perspective of cost management away from internally-defined value at the product and company level toone that is based on external information.TCM is one of the best publicized of these market-driven techniques. It isfocused on building customer-defined value into the product during the development cycle. It seeks to ensure that a product is not launched until it has optimized its value content, as measured by specific customer-defined valueattributes, as well as its profit goals as determined by the firm’s managers. Valueanalysis and value engineering are used to discipline the development effort inTCM (Ansari & Bell, 1997; Bromwich & Bhimani, 1994; Yoshikawa, 1994).There is increasing field evidence that firms which use TCM do develop products that contain minimal design flaws, perform well against customer expectations, and achieve their profit goals from the onset of production and throughoutthe product’s life. It would appear that building the customer perspective into theproduct increases the odds that the product will prove competitively successful.Reviewing these developments, then, there is increasing evidence that thosefirms that focus their activities and expenditures on meeting specific customerrequirements, or value attributes, may outperform those less closely alignedwith the market. The challenge to cost management practices embedded in thesetrends is two-fold: (1) to find ways to objectively measure and trace costs tocustomer-defined requirements; and, (2) to establish the relationship between firmswith various levels of value-driven cost and their resulting market and financialperformance.The profit potential concept (McNair, 1994; McNair & Vangermeersch, 1998)represents a first level attempt at addressing these two challenges. It measuresthe magnitude of the existing relationship between cost and value by matchingcurrent revenues with their associated amount of value-added (e.g., necessary)cost. The resulting metric, or relationship between revenue and value-added cost,was defined as the firm’s value multiplier. Citing evidence from the field, theseauthors argue that only one fourth (25%) of a firm’s expenditures create valuefor the customer.